A Security Design Crisis in the Plumbing of U.S. Mortgage - PowerPoint PPT Presentation

A Security Design Crisis in the Plumbing of U.S. Mortgage Origination Nancy Wallace Haas School of Business Real Estate and Financial Markets Laboratory Fisher Center for Real Estate and Urban Economics MIT GCFP Conference September 28, 2016 1

Background MRAs Pre-Crisis Post-Crisis Conclusions GNMA/GSE pipeline risks ◮ Secondary mortgage market is heavily federalized. ◮ GNMA/GSE securitization volume is now dominated by non-depository mortgage originators. • CFPB, HUD and state-level oversight – no stress testing. • Reliance on short-term bi-lateral repo funding. • Short-run risks – covenants on repo, slowing of mortgage refi’s (reduced fee income), underfunding for servicing advances, other balance sheet failures. • Liquidity risks – changes in forward funding markets (hedging costs), repo pricing. • Systemic risks – Repo runs (short-run triggers and BAPCPA 2005), mortgage fire sales, unfunded rep and warranty guarantees, risk to origination capacity. 2

Background MRAs Pre-Crisis Post-Crisis Conclusions Warehouse Lending and Repurchase Agreements Warehouse Lender: Structured Investment Repo Buyer Vehicle (SIV): Repo Buyer Warehouse Lender: Structured Investment $ $ Vehicle (SIV): Repo Buyer Repo Buyer Mortgage Origina- Mort. Note $ $ Mort. Note Mort. Note $ $ Mort. Note tor: Repo Seller $ Bailee Sale Bailee Sale Mortgage Origina- Borrowers tor: Repo Seller Mort. Private-Label Private-Label SPE or GSE SPE SPE or GSE SPE (a) Repo Setup (b) Repo Unwind 3

Background MRAs Pre-Crisis Post-Crisis Conclusions Federalization of Secondary Residential Mortgage Market (Source: HMDA) 4

Background MRAs Pre-Crisis Post-Crisis Conclusions Importance of Non-Depository Origination for GSE and GNMA Securitization 5

MRAs Background Pre-Crisis Post-Crisis Conclusions Dominant Non-Depository Funding Facility: Mortgage Repurchase Agreements ◮ Summary of Contract Features: • Strict capital and accounting covenants. • Significant roll-over risk (short term maturities). • Often highly concentrated repo buyer exposure. • Risk of haircuts and dynamic margins. • Exempt from automatic stay under BAPCPA 2005 (repo buyer holds perfected mortgage collateral). • Rep and warranty risk resides with originator (repo seller with little capital). • Mortgage servicing positions at risk: liquidity needs for advances. 6

MRAs Background Pre-Crisis Post-Crisis Conclusions Dominance of Master Repurchase Agreements (SIC 6162, 6163, 6798) 7

Pre-Crisis Background MRAs Post-Crisis Conclusions Outcomes for 2006 Top Forty Originators 8

Pre-Crisis Background MRAs Post-Crisis Conclusions Repo was/is a Bet on Loan-level Securitization Speeds: Mean and Standard Deviation by 30 Day Bins 9

Post-Crisis Background MRAs Pre-Crisis Conclusions Top 2016 Public IMCs are heavily reliant on MRAs 10

Post-Crisis Background MRAs Pre-Crisis Conclusions Concentrated Repo Buyer Commitments (Not including hedge funds or foreign banks) 11

Conclusions Background MRAs Pre-Crisis Post-Crisis Conclusions ◮ Significant pipeline risk exposure for GNMA and GSEs. • Dominance of imperfectly monitored bi-lateral repo funding. • Importance of risk segmentation between repo buyers and sellers. ◮ Non-depository pipeline funding is fragile: • Pre-crisis mortgage origination funding structures are still dominant especially master repurchase agreements (MRAs). • MRA funding structures are vulnerable to: 1) roll-over risk; 2) many other debt covenants (especially accounting triggers) – this was a very important pre-crisis problem leading to the collapse of lending infrastructure and many firm bankruptcies. • MRAs have repo status so they are exempt from automatic stay –Warehouse lenders (Repo Buyers) will run when market softens. • Non-depository warehouse borrowers (repo sellers) have no capital, but they bear the rep and warranty risk – is this sensible? 12